Currency Declines Killing Emerging Market ETFs as U.S. Rates Rise

ETF Trends

Emerging market ETFs have underperformed all year and now serious currency declines in many developing countries are adding to the pain.

For example, WisdomTree Dreyfus Emerging Currency Fund (CEW) has weakened close to its lowest levels of 2013.

“This prospect of higher interest rates in the United States is having a very negative impact on many EM currencies, with the Indian Rupee, Indonesian Rupiah, Brazilian Real and Turkish Lira all falling sharply early last week in response to rising U.S. rates and now down by 10-15% year-to-date.  The oft-repeated theory is that rising U.S. interest rates are sucking money out of these currencies,” says David Kelly, Chief Global Strategist at J.P. Morgan Funds.

“Falling currencies are, of themselves a significant problem for EM economies as they lead to higher imported inflation and central bank attempts to stabilize the currency by raising interest rates,” he added. [India ETFs Fall as Rupee Hits Fresh Record Low]

ETFs that don’t hedge their foreign currency exposure have been hurt by recent trends. [Slumping EM Currencies Pressuring Japan ETFs]

The iShares MSCI Emerging Markets (EEM) is down about 13% year to date, compared with a gain of 18% for SPDR S&P 500 (SPY).

Yet individual investors haven’t given up on emerging market funds despite the poor performance.

Diversified-emerging-markets funds have had net deposits of $27 billion this year through July, while U.S. large-cap stock funds have had net deposits of just $5 billion, Investment News reports.

“It’s really surprising how resilient the flows have been,” said Mike Rawson, a mutual fund analyst at Morningstar.

“It’s refreshing to see that retail investors haven’t abandoned emerging markets,” he said. “Just because performance is bad, it doesn’t mean you should sell everything.”

However, the flows tell a different story in ETFs. The $48 billion Vanguard FTSE Emerging Markets ETF (VWO) and the $35 billion iShares MSCI Emerging Markets ETF (EEM) had a combined $10.8 billion pulled out by investors this year through July, according to the article.

Full disclosure: Tom Lydon’s clients own EEM and SPY.

The opinions and forecasts expressed herein are solely those of John Spence, and may not actually come to pass. Information on this site should not be used or construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any product.

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